This blog connects to the AXEC Project which applies a superior method of economic analysis. The following comments have been posted on selected blogs as catalysts for the ongoing paradigm shift. The comments are brought together here for information. The full debates are directly accessible via the Blog-References. Scrap the lot and start again - that is what a paradigm shift is all about. Time to make economics a science.

February 10, 2017

Windmill economics

Lars Syll provides a mixture of political and economic arguments in favor of deficit spending. These arguments are based on his perception of how the monetary system works. Unfortunately, Lars Syll knows only one thing for sure, i.e. that Orthodoxy is false, but has not yet arrived at a valid heterodox economics. Because of this, all his policy proposals lack sound scientific foundations.

With regard to employment policy, he wholeheartedly propagates Keynesian deficit spending without realizing that Keynesianism is theoretically defective and deficit spending has some distributional secondary effects that are not compatible with his own normative ideas of the Good Society.

As with Don Quixote, good intentions paired with incompetence produce tragic results.

You say: “Egmont Kakarot-Handtke central point seems to be that Keynes did not understand profit. Given that every convenience store owner understands what profit is, it is totally absurd to claim Keynes didn’t understand it.”

The idea that ‘every convenience store owner understands what profit is’ is itself of utmost absurdity for anyone who has grasped what science is all about. This is what J. S. Mill, the great methodologist among the founding fathers, had to say about commonsensers in general: “People fancied they saw the sun rise and set, the stars revolve in circles round the pole. We now know that they saw no such thing; what they really saw was a set of appearances, equally reconcileable with the theory they held and with a totally different one. It seems strange that such an instance as this, ... , should not have opened the eyes of the bigots of common sense, and inspired them with a more modest distrust of the competency of mere ignorance to judge the conclusions of cultivated thought.”

So much for the understanding of convenience store owners.

What most people who call themselves economists do not understand is that the very characteristic of science is that it goes BEYOND common sense: “... it is precisely the task of science to supersede crude common-sense notions by critical analysis, and further that it is the unsatisfactory state of the foundations beneath the common-sense surface which is the most serious and crippling deficiency of contemporary economic science.” (Hutchison)

The ‘most serious and crippling deficiency of contemporary economic science’ is that the representative economist has NO idea of the pivotal economic concept of profit. Keynes was no exception: “His Collected Writings show that he wrestled to solve the Profit Puzzle up till the semi-final versions of his GT but in the end he gave up and discarded the draft chapter dealing with it.” (Tómasson et al.)

Scientifically, Keynes never rose above the level of a convenience store owner.

Every economist can know from the Palgrave Dictionary that the profit theory is false (Desai, 2008). Or, as Mirowski put it, “... one of the most convoluted and muddled areas in economic theory: the theory of profit.” In other words: the confused confusers of economics have NO idea what the pivot of their subject matter is. In still other words, because this bunch of scientific deplorables#1 does not know how the profit mechanism works it does not know how the market economy works. Economics is proto-scientific rubbish and this goes from Adam Smith to Keynes and beyond.

After- and Post-Keynesians and MMTers have not spotted Keynes’s foundational blunder until this very day.#2,#3 The scientific incompetence of economists ― Walrasians, Keynesians, Marxians, Austrians ― is beyond absurd.

Your question of February 11 has to be put into a macroeconomic context or what Keynes called the ‘monetary theory of production’ and it has to be answered in GENERAL terms, that is, without the technicalities of the US banking system. In other words, the whole banking system is reduced to the central bank which has only deposits on the liability side of its balance sheet and overdrafts on the asset side. The deposits are money and they are created uno actu with overdrafts, that is, deposits = overdrafts or central bank liabilities = central bank assets.

The most elementary configuration constitutes the analytical starting point: “There can be no doubt whatsoever that a problem which has not yet been solved in all its aspects under its simplest conditions will be still more difficult to tackle if other, ‘more realistic’ assumptions are being made.” (Morgenstern)

Scenario_0#1: The economy starts with employment L. There is only wage income Yw = 100 monetary units [e.g. billion $]. Productivity R and output O remain constant. Consumption expenditures C are equal to wage income, i.e. C = Yw. By consequence, profit of the business sector is zero. Wage payments to the household sector consist of deposits (= overdrafts of the business sector). Through consumption expenditures, the household sector’s deposits are again reduced to zero. The stock of money = deposits is zero at the beginning and at the end of the period.#2 During the period money is created and destroyed through the autonomous transactions (wage payments and consumption expenditures) of the business and the household sector.

In the initial scenario, the household sector’s budget is balanced, i.e. C=Yw, and the product market is cleared, that is, the quantity bought X is equal to the quantity produced O, i.e, X=O, at the market clearing price P (see chart).

Scenario_1: The government needs part of the current output in period 1. The need is legitimate and undisputed, e.g. war. The government taxes the wage income in period 1. Disposable income is reduced by 10 units from 100 to 90. Households reduce consumption expenditures in step from 100 to 90. Government fully spends the income tax of 10 units, that is, total consumption expenditures C remain unchanged and the market clearing price P remains constant. Both, private and public households fully consume their respective shares of output O. There is no real transfer of goods between periods. The war is fully paid for by taxes in period 1. In the following periods income tax is again zero and everything else is like in the initial scenario.

Scenario_2: NO income tax. Households reduce consumption expenditures C voluntarily from 100 to 90 in period 1. Through saving of 10 units the household sector’s current deposits at the central bank increase. At the same time, government spends 10 units and takes up overdrafts at the central bank. Both sides of the central bank’s balance sheet are equal. Households’ deposits = government’s overdrafts. Total consumption expenditures C and market clearing price P remain unchanged.

No changes happen in period 2, 3, 4. The households keep the deposits and the government keeps the overdrafts. Interest payments are left out of the picture.

In period 5 the government is supposed to pay back the overdrafts. The wage income of 100 is taxed with 10 units. Disposable income is reduced to 90. The government uses the 10 units of income tax to reduce its overdrafts to zero. At the same time, the household sector dissaves 10 units, i.e. reduces its deposits to zero. Consumption expenditures C are then equal to disposable income 90 plus dissaving 10 = 100. The balance sheet of the central bank at the end of period 5 is again zero as in the initial period. Deposits = money and overdrafts are ‘destroyed’, the creation of period 1 is fully reversed.

What happens in scenario_2 in comparison to scenario_1 is that the taxation for the war is shifted from period 1 to period 5. In real terms there is NO difference at all. Real consumption of the household sector is in both cases reduced in period 1. In other words, the taxes are paid in period 5 with the saving of 10 units in period 1. That’s all.

Nothing changes in real terms when the government issues bonds with a volume of 10 units in period 2. The household sector’s deposits are reduced to zero and so are the government's overdrafts. The central bank’s balance sheet reduces to zero. The household sector holds bonds instead of deposits and the government switches overdrafts into bond liabilities. The central bank is out as an intermediary and there is a DIRECT creditor-debtor relationship between the household and the government sector in the form of bonds or similar types of government securities.

In period 4 the whole securitisation transaction is exactly reversed. The government sector takes up 10 units overdrafts and redeems the bonds. Accordingly, the household sector’s stock of bonds is reduced from 10 to zero and the deposits go up from zero to 10.

In period 5 the households are taxed, they dissave and the government fully repays the overdrafts. In period 6 everything is again as it was in the initial period.

In real terms, the securitization over period 2, 3, 4 makes absolutely no difference. Only the form of assets and liabilities changes. The household sector holds bonds instead of deposits.

Now it is assumed that the central bank buys the bonds in period 4 from the household sector. So the household sector’s stock of bonds goes down to zero and deposits go up to 10. The central bank has now 10 units of bonds on the asset side instead of government overdrafts. The credit relationship between central bank and government takes now the form of bonds.

If the government taxes the households in period 5 it can redeem the bonds which are held by the central bank. Everything else is as in the previous scenario.

If, on the other hand, the central bank keeps the bonds and the government does not tax the households the repayment of the war debt is simply postponed indefinitely. The household sector keeps its saving of period 1 in the form of deposits = money instead of bonds. The households can buy and sell bonds from and to the central bank and thereby change their liquidity. The sum of bonds and deposits is always 10.

The situation only changes if the households dissave. In this case, consumption expenditures increase from 100 to 110 and deposits reduce to zero. Because output remains unchanged the market clearing price P rises and the business sector now makes a profit of 10 units, i.e. equal to dissaving. Accordingly, the business sector’s deposits go up while those of the household sector go down by the same amount. The balance sheet of the central bank does not change, only the owners of the deposits change.

In the next period consumption expenditures and the market clearing price fall back to their previous level.

As long as the government does not tax the households everything remains unchanged for an indefinite time. The trouble comes when the net income falls due to taxation from 100 to 90 and consumption expenditures fall also to 90 because now there is no dissaving. In this case, the market clearing price falls and the business sector makes a loss of 10 units which reduces its deposits to zero.

Now the government is in the possession of 10 units of deposits from taxation which can be used to redeem the bonds. After this action, the stock of money and bonds is again zero.

Again, in real terms, NOTHING has changed. The households have paid for the war in terms of output in period 1. Everything else is basically a deferment of taxes. The central bank can extend the deferment in principle until eternity by buying the government securities and keeping them on the asset side.

#1 (A0) The objectively given and most elementary configuration of the economy consists of the household and the business sector which in turn consists initially of one giant fully integrated firm. (A1) Yw=WL wage income Yw is equal to wage rate W times working hours. L, (A2) O=RL output O is equal to productivity R times working hours L, (A3) C=PX consumption expenditure C is equal to price P times quantity bought/sold X.
#2 The idealized transaction pattern looks like this. The wage rate and the market clearing price in period 2 is doubled. All real magnitudes remain unchanged.

Scenario_3: NO income tax and NO saving of the household sector in period 1. Households do NOT reduce consumption expenditures C = 100 and accordingly their deposits are zero at the beginning and the end of period 1. Government takes up overdrafts at the central bank and spends these 10 units IN ADDITION to the households, so total consumption expenditures are now 110. Since output remains unchanged the market clearing price now rises and the business sector makes a profit of 10 which is equal to the government’s budget deficit. At the central bank, the business sector’s deposits are 10 and government overdrafts are also 10 at the end of period 1. The redistribution of current output O between the household and the government sector does not happen via the income tax or saving but via the market clearing price.

In real terms, there is again NO difference between the scenarios. The difference compared to scenario_2 is that the business sector now has 10 units deposits instead of the household sector because the households do not save and the business sector makes a profit of 10 units. Business sector’s deposits = money = government’s overdrafts.

In the next period, the market clearing price falls back to the initial level. The business sector can hold its deposits indefinitely and the government can keep its overdrafts indefinitely. Alternatively, the government sector can sell bonds to the business sector which takes the central bank out of the loop and establishes a DIRECT credit relationship between business sector and government. Deposits = money reduce again to zero.

As long as the government does not tax the households everything remains unchanged for an indefinite time. The trouble comes when the net income falls due to taxation from 100 to 90 and consumption expenditures fall also to 90 because now there is no dissaving. In this case, the market clearing price falls and the business sector makes a loss of 10 units which reduces its deposits to zero. The one-period ‘inflation’ of period 1 is reversed by a one-period ‘deflation’ in period 5.

The government is now in the possession of 10 units of deposits from taxation which can be used to redeem the bonds. After this action, the stock of money and bonds is again zero. Everything is then again as in the initial period.

In scenario_1 the households pay income tax in period 1 and NO credit relationships ensue. In scenario_2 the tax payment is deferred via saving in period 1 and dissaving in period 5. In scenario_3 we have instead of the saving/dissaving of the household sector profit in period 1 and loss in period 5. Over all periods profit and loss cancel out. In scenario_2 profit is zero over all periods.

In REAL terms there is absolutely NO difference between the scenarios. The significant difference is between the saving/dissaving scenario and the profit/loss scenario. Because MMT lacks the proper macrofoundations (see footnote #1 above) these folks NEVER got this ALL-DECISIVE difference. It is pretty obvious that the problem of scenario_3 lies in its DISTRIBUTIONAL effect. This scenario in effect PRODUCES the overall profit of the business sector. In other words, Keynesian deficit spending is the biggest pro-one-percenter profit booster ever. How this is compatible with the Keynesian rhetoric for a more equal income distribution remains forever a mystery.

Keynesians and MMTers simply do NOT understand what profit is and how the profit mechanism works. This is disqualifying for an economist, isn’t it?

The hybrid science

As a first approximation, one can agree on the general characteristic that the economy is a complex system.

However, with the term system one usually associates a structure with components that are non-human. In order to stress the obvious fact that humans are an essential component of the economic system the market economy should be characterized more precisely as a complex hybrid human/system entity or sys-hum.

The scientific method is straightforwardly applicable to the sys-component but not to the hum-component. While it is clear that the economy always has to be treated as an indivisible whole, for good methodological reasons the analysis has to start with the objective system-component.

In gestalt-psychological terms the economic system is the foreground, individual behavior the background. Common sense wrongly insists that the hum-component must always be in the foreground. This fallacy compares to Geo-centrism. The economic system has its own logic which is different from the behavioral logic of humans. The systemic logic is what Adam Smith called the Invisible Hand.

There are systemic laws but no behavioral laws. Systemic laws have the same methodological status as physical laws.

Neither Orthodoxy nor Heterodoxy can tell what the systemic laws of the actual monetary economy are.

Whether the outcome of the human/system-interaction is good or bad is a politcal question that lies outside of theoretical economics. Theoretical economics explains how the actual economy works - no less, no more.

First Economic Law ®

Narrative vs.Theory

Psychological, sociological or behavioral assumptionism cannot yield anything other than a gossip model of the world. Second-guessing the agents is not economic analysis.

Storytelling is the original mode of communication in the social realm — except science.

Political economics is storytelling and, by default, the natural habitat of confused confusers. Walrasianism, Keynesianism, Marxianism, Austrianism are social narratives and not scientifically valid representations of reality.

"The truth is, most persons, not excepting professional economists, are satisfied with very hazy notions." (Fisher)

In marked contrast, theoretical economics lives up to the standards of material and formal consistency. A scientific theory is the best representation of reality that is humanly possible.

Paradigm shift

"The problem is not just to say that something might be wrong, but to replace it by something — and that is not so easy." (Feynman)

"As will become evident, there is more agreement on the defects of orthodox theory than there is on what theory is to replace it: but all agreed that the point of the criticism is to clear the ground for construction." (Nell)

"The moral of the story is simply this: it takes a new theory, and not just the destructive exposure of assumptions or the collection of new facts, to beat an old theory." (Blaug)

"The task of producing knowledge against the grain requires imagination." (Mirowski)

"A new idea is extremely difficult to think of. It takes a fantastic imagination." (Feynman)

"The scientific imagination dreams of explanations and laws." (Peirce)

"It is brilliance of imagination which makes the glory of science." (Evans)

"... we know little more now about ‘how the economy works,’ ... than we knew in 1790, after Adam Smith completed the last revision of The Wealth of Nations." (Clower)

The Starting Problem or What are your axioms?

"What are the propositions which may reasonably be received without proof? That there must be some such propositions all are agreed, since there cannot be an infinite series of proof, a chain suspended from nothing. But to determine what these propositions are, is the opus magnum of the more recondite mental philosophy."

To be replaced (1)

The core premises of Orthodoxy are uncertain and false and this fully explains the failure of the research program.

“As with any Lakatosian research program, the neo-Walrasian program is characterized by its hard core, heuristics, and protective belts. Without asserting that the following characterization is definitive, I have argued that the program is organized around the following propositions: HC1 economic agents have preferences over outcomes; HC2 agents individually optimize subject to constraints; HC3 agent choice is manifest in interrelated markets; HC4 agents have full relevant knowledge; HC5 observable outcomes are coordinated, and must be discussed with reference to equilibrium states.” (Weintraub)

This elementary syllogism is demonstrably false. The demonstration consists in the proof that Keynes could not solve the Profit Puzzle. Neither did Post-Neo-New-Keynesians.

In the most general terms, the economics paradigm shift consists in switching from the behavior-centric bottom-up approach to the structure-centric top-down approach. This is comparable to the Copernican turn from Geo-centrism to Helio-centrism.

Paradigm shift

Walrasianism, Keynesianism, Marxianism, Austrianism is provable false and this requires the shift to an entirely new paradigm

AXEC-Meme

If it isn’t macro-axiomatized, it isn’t economics.

Consensus

Economics is a science without scientists. Because they are ignorant of the elementary difference between profit and income, the present generation of economists has not made and cannot make a significant contribution to the discussion about how the actual economy works.

Every orthodox or heterodox economist can convince himself/herself that their profit theory is defective.

Because the profit theory is false the whole of conventional economic theory has to be rejected.

"What is now taught as standard economic theory will eventually disappear, no trace of it will remain in the universities or boardrooms because it simply doesn’t work: were it engineering, the bridge would collapse." (McCauley)

No scientist will ever accept Walrasianism, Keynesianism, Marxianism, or Austrianism. These approaches are logically and/or empirically refuted. This is the actual methodological state-of-the-art. Walrasians, Keynesians, Marxians, or Austrians are still at the proto-scientific stage. These approaches cannot be improved, only abandoned.

Economists are a public nuisance because they have an opinion on everything but knowledge of nothing.

Nopopop

This blog does not add to any popular/un- popular opinion.

This blog does not hand out advice about how to avoid taxes, to get rich on the stock market, to be successful in business, to increase the wealth of nations, to run an economy, to maximize welfare, to prevent national/global bankruptcy, to improve the institutional setup of society, to get out of national/global depression, nor about how to save humankind or any subgroup thereof.

This blog is about the true theory of the actual monetary economy.

"In order to tell the politicians and practitioners something about causes and best means, the economist needs the true theory or else he has not much more to offer than educated common sense or his personal opinion." (Stigum)

Redefining economics

Old definition, subjective-behavioral:

Economics is the science which studies human behavior as a relationship between ends and scarce means which have alternative uses.

New definition, objective-systemic:

Economics is the science which studies how the monetary economy works.

From proto-science to science

Political economics is scientifically worthless since more than 200 years

Focus

Science is of primary interest and importance. Scientists are of secondary interest. The general public finds it remarkable that one of Einstein’s peculiar habits was to never wear socks. In marked contrast, physicists find alone his field equations remarkable.

With regard to science most people lose focus easily because of a natural preference for anecdotes over facts or subjectivity over objectivity.

Hence, Schumpeter once considered it necessary to remind his habitually disoriented fellow economists: “Remember: occasionally, it may be an interesting question to ask why a man says what he says; but whatever the answer, it does not tell us anything about whether what he says is true or false.”

Disclaimer

Missing Blog-Reference links: AXEC does not guarantee that their comments can at any time be recovered from where they have been posted intitially because the availability depends on the publication policy of the blog owner which is implicitly accepted on entering a debate. See also: 'Economists: Incompetent? Stupid? Corrupt?'

Texts: Parts of arbitrary length of any of the author's texts is and will be used again by the author in papers, books, websites, blogs, and other media without explicit reference. The right to make corrections or minor textual improvements on reutilization is reserved.

Caution: Do not expect a corroboration of your political view. Neither a refutation. Political economics has been scientifically worthless since Adam Smith. Politics has to be separated from economics because it is categorically different from science.The best science can do and has always done is to prove beyond reasonable doubt that you have been objectively wrong or ignorant until now. Science goes beyond the naive common sense of today and becomes the sophisticated common sense of tomorrow.

Motto

The Scrap-the-lot citation in the intro is from Joan Robinson.

Outlook

To recall, while political economics is storytelling, theoretical economics adheres to scientific standards.

The first task of theoretical economics is to get the axiomatic foundations right. This is what J. S. Mill called the opus magnum. Neither Orthodoxy nor Heterodoxy came up with a reasonable solution until this day. This explains the secular stagnation of economics.

There is no serious alternative to structural axiomatic economics. This is not a matter of opinion but of proof. The sole criteria are material and formal consistency.

All truths are easy to understand once they are discovered; the point is to discover them.

Galileo Galilei

The Profit Law ®

The Law of Supply and Demand ®

Law of Value ®

Employment equation ®

Time evolution of the economic system ®

The Economics God Equation embodies the open simulation of the elementary consumption economy from t=0 to infinity

Major economic policy implication

The price mechanism does not work as standard economics hypothesizes. The axiom-based employment equation states that overall employment increases if the average wage rate increases relative to average price and productivity. This gives one the lever to improve the employment situation all over the world and to fend off deflationwithout rising debt and without artificial capacity growth. To increase the average price relative to the average wage rate and productivity increases unemployment. This is what happens at the moment with the Fed's inflation goal.

Right policy depends on true theory.

“In order to tell the politicians and practitioners something about causes and best means, the economist needs the true theory or else he has not much more to offer than educated common sense or his personal opinion.” (Stigum)

Lacking the true theory, economists promote since more than 200 years opinion instead of knowledge.

From microfoundations to macrofoundations

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